A look back at the big tax stories of 2019

  • The Tax Working Group report and capital gains tax
  • Inland Revenue’s business transformation
  • OECD’s international tax proposals

Transcript

This week, our final episode of the year takes a look back at the big tax stories of 2019 and also casts an eye over the tax events of the past decade.

The Tax Working Group report

The release of the Tax Working Group report and the Government’s decision not to follow through on the group’s recommendation for a general capital gains tax is by far and away the biggest tax story of the year. Although the Prime Minister stated that as long as she remains leader of the Labour Party, she will not be proposing a capital gains tax, the issue still excites and generates quite a degree of controversy. The reaction, for example, to a recent podcast in which I talked about Robin Oliver and Geof Nightingale’s session about why a capital gains tax didn’t happen at the recent Chartered Accountants Australia New Zealand Tax Conference is a good illustration of that.

As I’ve said many times beforehand, the frustrating thing for me about the aftermath of the Tax Working Group is that the debate around a capital gains tax completely drowned out all the other good work the group undertook. Some very interesting matters were raised and discussed. The tax system was found to be in generally good health, but there were issues. Pressures are building around the demographics and the funding of New Zealand Superannuation and rising health care costs for our ageing population.

On the other hand, the Government’s books are pretty solid and there is no immediate requirement to be raising revenue and expanding the tax base to pay for those additional costs. So, a capital gains tax is not something that’s going to be immediately necessary. But what the group did point out was those pressures are not that far off and we need at some stage to consider how the tax base will respond to that.

The other thing I thought was very interesting and I’ve talked about it before, is we started to see some movement on the question of environmental taxation. The TWG said we could do a lot more in this space. But also, and certainly this was Sir Michael Cullen’s recommendation initially, much of any changes that happened in this environmental taxation space should be in terms of recycling the funds through to enable the transition to a lower carbon emission economy. And that is something which is much more immediate and doesn’t require a capital gains tax. We should really be spending more time debating how we will implement these taxes and in which way we will allocate the funds that are raised.

Inland Revenue

The second large story for the year was Inland Revenue’s Business Transformation and in particular its Release Three, which happened in April. This is when it said, right, we are going to do auto-calculations for all taxpayers. And instead of them having to use a tax intermediary, Inland Revenue will automatically calculate the unders and overs for the year and issue appropriate refunds or demands as required.

This is a hugely ambitious project. About 2.9 million automatic assessments were processed resulting in approximately $572 million dollars of refunds being paid to taxpayers. But it threw up quite a lot of controversy. Probably in hindsight Inland Revenue was too ambitious in what they tried to do.  They were bedding in the new tax system which for example involved transferring something like nineteen point seven million records into the new START (Simplified Tax and Revenue Technology) system.

Two key points emerged from the switch. Firstly, somehow over a period of time, 1.5 million people had managed to get their prescribed investor rate wrong. So those who had underpaid were expected to pay up. But those who had overpaid on average about 40 dollars each weren’t going to get a refund.

Now, as it transpires, political pressure and the howls of outrage from the public means that work is in progress to correct this issue. Currently the Finance and Expenditure Committee is looking at a measure which will deal with the question of the overpayments not presently being able to be refunded. That’s a good outcome coming from that pressure.

We don’t need no education?

What that issue shows to me though, is something that’s been taken for granted across the system.  Not just this year, but for the past decade and probably even longer. And that is a dangerous assumption – that taxpayers know how the system operates and will always act in their own best interests because they are always across what’s happening their prescribed investor rate, their PAYE codes. That’s clearly not true. And it’s something Inland Revenue and tax professionals will have to deal with going forward.

Looking ahead to what’s going to be happening over the next three or four years, I think it’s probably one of Inland Revenue’s greatest priorities to introduce an educational process to ensure people are kept up to date about what happens with their KiwiSaver and PAYE.

The other part of the fallout from Release 3 as it was called, was that Inland Revenue basically did enormous damage to its relationship with tax agents. We as a group were pretty much left out in the cold about how to manage the transition to the new tax system. As a result, our experience in using the phones when interacting with Inland Revenue was uniformly very poor.  And the survey I talked about last week with Chris Cunniffe of Tax Management New Zealand shows how dissatisfied tax agents have become with Inland Revenue’s performance.

Now credit to the Commissioner of Inland Revenue Naomi Ferguson, she’s acknowledged this. And we now know that going forward, Inland Revenue will not be making auto calculations for any taxpayer who is linked to a tax agent, and is overhauling its procedures around contacting clients of tax agents directly.

This is very much a sore point. 72% of tax agents had clients approached directly by Inland Revenue. And one of the interesting points about that was a significant proportion of them were approached by Inland Revenue in relation to the Accounting Income Method AIM, which Inland Revenue has been promoting as a simpler means of paying provisional tax.

At present only two thousand or so people have taken up AIM. And the reason is they’ve done that – despite Inland Revenue’s huge push – is that we as tax agents feel that it isn’t right for many of our smaller clients’ businesses – that it requires too much information and is rather inflexible in its approach. So that’s something which is probably going to change. I know Inland Revenue is working on that.

Overall, I think this huge transformation can be regarded as a qualified success. There are issues, as I’ve just said, around how Inland Revenue’s relationship with tax agents deteriorated. At the same time this is a reflection of how open our tax policy process is. We were able to get to Inland Revenue and say, “Hey, this is not working, and you need to do something about it”. And through various sources – including also the Revenue Minister, Stuart Nash, getting his ears bent by many tax agents and accounting bodies – change is happening. And that’s actually how the system should operate. So that’s a sort of reflection of the good and the bad of how our tax system works.

Meanwhile over at the OECD…

The third story, and again, this is another one that’s been running for quite some time with huge implications, are the ongoing international developments that we’re seeing in tax now.  There are two parts to this. The first is what we’re seeing right now, the impact of the Automatic Exchange of Information under The Common Reporting Standard. This is where the tax authorities around the world swap information about taxpayers’ offshore financial holdings. There’s a colossal amount of data being swapped, and it really is surprising how unaware people are about just how much data is being swapped by tax agencies. Inland Revenue has now received over the two releases made to date under CRS, one point five million account records of New Zealanders who have overseas financial accounts.  It’s presently working its way through that data and starting to ask questions.

Separate from that are the developments by the OECD in international tax and how we actually calculate a multinational’s income and allocate it to various jurisdictions. The previous permanent establishment regime built around a bricks and mortar approach no longer operates in the digital economy and through initiatives such as BEPS – Base Erosion and Profit Shifting -the OECD has been working on a replacement.

How the GFC changed international tax

And that leads on to what has been happening over the past decade. Back in 2010, the OECD was starting to look at the implications for tax jurisdictions of international tax planning in the wake of the global financial crisis, which in 2008 had pretty much smashed to bits the budget balances of most jurisdictions around the world.

All around the world, countries tax take took a huge hit in the wake of the GFC. And countries then started looking very closely at where all the money was going and the scale of tax avoidance, and in some cases outright tax evasion, became ever more apparent. And so, this is the most important tax story over the past decade because it is transforming the way international tax operates.

You can run but you can’t hide…

And the implications for our tax base have been twofold. One, as a result of the global financial crisis and the initiatives that the OECD started, we now have Automatic Exchange of Information and the Common Reporting Standard and as I mentioned a minute ago, vast amounts of information sharing. We are also seeing moves to determine how multinationals will be taxed and that will not only affect how we tax multinationals, but also how our multinationals are taxed.  Fonterra is the one that’s most often mentioned in this regard.

But it was the Americans that kicked this all off in 2010 with the Foreign Account Tax Compliance Act.  What FATCA did was it required other jurisdictions to report to the US Internal Revenue Service – the IRS – details of American citizens who held bank accounts in their jurisdictions.

FATCA was the blueprint for what we have now CRS and Automatic Exchange of Information.

American exceptionalism

But there was one other thing that the Americans also did which is still playing out. The Americans are not part of the CRS initiative.  In effect they said, “Well, we’ve got FATCA. we don’t need to be part of this.”

And American unilateralism is a continuing issue for the global tax base, because in the wake of the OECD proposal for the Global Anti-Base Erosion Proposal, the American Treasury Secretary just last week said, “Well, actually, we might not join that. Instead, we’ll just rather keep going with our old international tax rules”. The suspicion is that’s because the digital giants are putting pressure on the Treasury Secretary and the American government. So, a decade ago, America took unilateral action to introduce FATCA, which then led to the CRS. And now a decade on, it is throwing a large amount of grit into attempts to reform the taxation of multinationals.

A tax groundhog day

Here in New Zealand, back in 2010, Peter Dunne was the Revenue Minister, the Canadian Robert Russell was Commissioner Inland Revenue. The top income tax rate was 38% and the threshold at which it kicked in had just been increased to $70,000. GST was then 12.5% and the registration threshold had also just recently increased to $60,000.

Now those thresholds haven’t been increased since then. I think one of our faults in our system is we do not review the tax thresholds regularly enough and it causes distortions. And then suddenly politicians are making grandiose claims about massive tax cuts, which are nothing more than inflation led adjustments.

But in a real case of Groundhog Day, back in January 2010, the Victoria University of Wellington Tax Working Group, issued its report. The group (which included recent podcast guest and member of the latest Tax Working Group Geof Nightingale) shied away from recommending a capital gains tax. But it was in favour of increasing the amount of taxation from property, particularly in the form of a low rate land tax. And it also wanted to see more taxation of residential rental properties, suggesting they could be taxed in a similar manner to the fair dividend rate and foreign investment fund regime. So, there you have it, ten years ago, we were also talking about capital gains and the taxation of investment property.

The other thing that was raised by the Bob Buckle led group in 2010 was a recommendation for “a comprehensive review of welfare policy and how it interacts with the tax system with an objective being to reduce high effective marginal tax rates”.  Both the Welfare Expert Advisory Group, which reported earlier this year, and the TWG commented on this situation.  And I suspect that in another 10 years we will still be talking about this issue. It doesn’t go away, even if governments are unwilling to deal with some of the political consequences of action.

Well, that’s it for the Week in Tax for this year. I’d like to thank all our listeners and my guests throughout the year. I’d also like to thank David Chaston and Gareth Vaughan at www.interest.co.nz for publishing these transcripts.

We’ll be back next decade on Friday, the 17th of January. Until next time. Meri Kirihimete me te Hape Nū Ia. Merry Christmas and a Happy New Year. Thank you.

Property developers and a still too common GST mistake

  • Property developers and a still too common GST mistake
  • EU proposes sharing credit card data to counter tax fraud
  • OECD proposes minimum global tax rate as part of BEPS initiative

Transcript

This week, a common and often very expensive GST mistake. The European Union ramps up its anti-fraud fight with a massive data sharing initiative, and the OECD suggests a global minimum tax.

Property developers provide a rich source of work for tax advisers and for Inland Revenue. That is because of the importance of property to the economy as a whole, but also in that they are often remarkably careless about the tax consequences of a transaction. This is probably a character flaw in that a developer sees an opportunity and knows they need to move quickly to maximise the opportunity.  They therefore often go charging into a project without having someone on hand sweeping up the bits and pieces to make sure that all the i’s are dotted, and t’s are crossed.

In my experience, a key distinction between developers who fail and those who are successful is often the successful ones make sure that they have a team around them that does look after all the bits and pieces and the necessary legal frame, legal and tax frameworks to ensure the projects go ahead.

How this often manifests itself is that a developer might come across a residential property which is ripe for development and will make a bid for the property and purchase it. This is where the  very common tax problem may emerge if the developers aren’t careful. If the developer purchases the property in the wrong entity, either personally or in a company or a trust which is actually used for development purposes.

At some point down the track, the developer’s lawyer or the accountant might say that property shouldn’t be in that entity and we need to get it into the proper development company. The developer often responds “Well, just deal with it. Get it into the appropriate entity”. And what will happen more frequently than it should happen is that a second transfer is made from the developer or the wrong entity to the correct entity.

And then the new entity goes and claims a GST input tax credit. For example, a residential property worth say $575,000 residential property was bought and was then transferred at a later date to the correct development company, which tries to claim an input tax credit of $75,000. Inland Revenue will turn it down.

The reason why it would turn it down is a provision in the GST Act, section 3A(3)(a). Now this provision has been in place since October 2000 and it is quite astonishing that 19 years on this issue keeps arising. Why?

What this provision exists to do is to stop people buying a property when no GST was paid.  For example, a residential property bought from someone who’s not GST registered, holding it and then selling it at an inflated price to a GST registered entity, which then claims the input tax credit. This was something that was going on and was eventually put a stop to by the introduction of this provision in October 2000.

And the way it works is simply to say that if the transaction involves a sale between associated parties, the amount of the GST that can be claimed by the recipient party, the developing company in this case,  is limited to the amount of GST paid by the original purchaser. So, if the purchaser buys from a non-GST registered person a residential property and then on sells it to a GST registered person no GST input tax can be claimed on the purchase because no GST was paid by the original purchaser of the property.

Now this is, as I said, a very common mistake I keep encountering. It’s a reminder to all people involved in the property industry to be careful when buying property to make sure that you have the correct entity settle on the transaction with all the necessary paperwork in place. Too often developers are keen to get something done and then buy in the wrong entity just to get the deal done. And unwinding that transaction is either impossible or proves very expensive. So that’s a word to the wise.  But I still find it astonishing that this is an issue I’ve been dealing with repeatedly for 19 years.

A credit card trap

Moving on it’s been a busy week in the international tax world. I’ve spoken in past podcasts about the international efforts to address tax evasion and fraud. And this week, the European Union announced an initiative to counter e-commerce VAT(GST) fraud, which is estimated to be about costing 5 billion euros a year in the European Union.

From January 2024, credit card and direct debit providers will be obliged to provide member state tax authorities with data about certain payment details from cross-border sales.  The anti-fraud Eurofisc Network will then analyse this data for potential fraud. This is another part of the massive information sharing programmes which are now common to international tax such as FATCA and the Common Reporting Standards on Automatic Exchange of Information.

Inland Revenue has been operating something similar to this for some time. The most notorious example I encountered was a family here had still kept a credit card issued by a UK bank. The mother wanted to come out and visit them and have a holiday in New Zealand. So, what she did was she put money into the credit card in the UK and they then used it for the only time to hire a camper van.

Inland Revenue found the transaction and knew that this was a credit card transaction that was made by a New Zealand tax resident.  It issued a “Please explain” letter. And that turned out to be a very costly matter because in fact the son had made a pension transfer which got picked up and tax paid.

What’s notable is that Inland Revenue’s older computer system was able to track and find that credit card transaction. But following Business Transformation what will Inland Revenue’s computers be capable of tracking? It will be interesting to see. But the warning is that if you use a credit card issued by an overseas bank in New Zealand, Inland Revenue will come asking questions.

Tackling tax aribtrage

And finally, another very significant development in overseas tax.  This is part of the ongoing work of the OECD/G20 Base Erosion and Profit Shifting initiative (BEPS). The OECD secretariat last Friday issued a discussion document on what’s termed the Global Anti Base Erosion proposal under Pillar Two.

I spoke on a previous podcast about the Pillar One initiative. The references to pillars, by the way, is because these proposals represent significant changes to the international tax architecture, hence the reference to pillars.

Now this Global Anti-Base Erosion (GloBE) Proposal is really quite significant and worth quoting at length. According to the press release it

“seeks to comprehensively address the remaining BEPS challenges by ensuring that the profits internationally operating businesses are subject to a minimum rate of tax.  A minimum tax rate on all income reduces the incentive for taxpayers to engage in profit shifting and establishes a floor for tax competition amongst jurisdictions.”

The press release goes on to note that

“global action is needed to stop a harmful race to the bottom on corporate taxes, which risks shifting the burden of taxes onto less mobile bases and actually may pose a particular risk for developing countries with small economies.”

And this has been something that’s been brewing for a long time now. The way that international multinationals have been using tax competition, encouraging countries to cut their tax rates and also looking to minimise their tax bills through shifting profits into low tax jurisdictions. The OECD proposals are a huge step forward and there’s a lot more to consider.

Things are now happening very rapidly in this space. The timeline for submissions on this particular Pillar 2 proposal is Monday 2nd December. There will be a public consultation meeting the following Monday 9th December in France. And the G20 is saying it wants a solution on the whole matter delivered by the end of 2020. So, stay tuned for what is a remarkably fast changing environment.

Well, that’s it for The Week in Tax. I’m Terry Baucher and you can find this podcast on my website www.baucher.tax or wherever you get your podcasts. Please send me your feedback and tell your friends and clients. And until next time have a great week. Ka kite āno.

Don’t spend your tax refund!

The Week in Tax – back to normal after the Government’s decision on TWG report?

International tax pressure is building to create a Digital Services Tax because OECD’s BEPS initiative is growing consensus.

Why you shouldn’t be spending any refund from Inland Revenue that turns up unexpectedly. Unexplained credit balances sometimes are paid to prevent interest payments to Inland Revenue and these are getting refunded!

Expect the report from Welfare Expert Advisory Group soon. They consider the interaction between tax and social assistance.

Next week’s guest is Marjan van den Belt

Full transcript and links

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